A Citizen's 2% Solution

How to Repeal Investment Income Taxes, Avoid a Value-Added Tax, and Still Balance the Budget

Social Security: Trust? Or Ponzi Scheme?

I recognize that some readers may think that comparing a government Trust Fund to a Ponzi Scheme is too harsh; and it certainly is not going to make me many friends among the powerful present, past and future Trustees of the Social Security program.  But one of my life lessons (absorbed through nearly thirty years of crisis management and business workouts – a field ripe with willful denial of inconvenient facts) is that people have an astounding ability to hear what they want to hear.   So it’s important to be very clear and direct, particularly when challenging long-held beliefs.  It is my observation and opinion that the semantic misrepresentations and confusion surrounding social security, specifically with regard to employment taxes and the “Trust Fund,” are a serious obstacle to productive debate about tax reform and governmental fiscal responsibility. 

Our current tax debate is framed around the allegation that “nearly one-half of the population does not contribute to the costs of government”.  When it is most carefully framed, the specific charge is they “pay no federal income tax” – but whether it is carefully or carelessly framed the implication is clear: it is an accusation that nearly half the population is composed of deadbeats who shirk their responsibilities.  But the only way this allegation, which has become a central polarizing theme in the debate, is true, is if you close your eyes,  hold your nose, and pretend that employment taxes aren’t taxes. 

Last year, for the first time, the social security program turned cash flow negative: it paid out more in benefits than it collected in “contributions”.   Although our political leadership and the Social Security Trustees assure us that this change isn’t critical, that the Trust remains adequately funded at least until 2037, if you’ve been paying attention you might have noticed that those same Trustees have begun squirming a little bit more uncomfortably every time they are trotted out in front of the klieg lights to provide that reassurance.  They should.  Because their claim is essentially hogwash. 

If you want to hear somebody else tell you the same thing in kinder and gentler terms, I urge you to go read the post “No Nest Egg in the Trust Funds” on the Concord Coalition website.  They will cite the same facts, as they have done for years, but they will do it in such soft and gentle tones that you may miss the point.  The social security trust fund is composed of pieces of paper in a drawer at Treasury which essentially say “I Owe Me”.   They do not represent invested assets held in Trust as a source of funding for future obligations.  They simply represent acknowledgment that the government uses your contributions to social security to fund its general operations. 

As it comes time to honor those paper obligations the only available resources from which to do so are future taxes, or future borrowings.  Understand that clearly.  Those notes in the drawer at Treasury document the diversion of contributions to use for other purposes – they do not represent assets available to support future funding needs.  

It is notable that when the Congressional Budget Office (“CBO”) reports our annual deficits they treat employment taxes the same as they treat all other general revenues.  For decades our financial stewards have netted the surplus collections from employment taxes against overall disbursements when calculating and reporting our annual deficits.  Similarly, when the CBO reports the national debt, they focus on Debt Held by the Public, pointedly excluding social security trust obligations in a tacit acknowledgement the accounting entry represented by the trust fund has no meaningful impact upon the national balance sheet.  Thus, if I ignore the semantic legerdemain used with regard to the social security trust, and focus strictly upon the underlying facts, I am forced to conclude that the only functional purpose of differentiating between employment taxes and income taxes is to hide the fact that the working middle class pays higher marginal tax rates than their wealthier and more privileged neighbors

High earnings (currently any in excess of $106,800) and all investment income are shielded from social security tax assessments.  Why is that?  Do we really think the most fortunate among us should be free from obligation to contribute to nearly one third of our government functions?  According to the CBO, 2010 budget outlays for social security and medicare were projected at $1.15 trillion, 32% of total projected outlays of $3.59 trillion.  Are we going to continue shielding high earnings and investment income as those programs advance toward and rapidly exceed 50% of overall outlays?  Our tax policies assess the vast bulk of the obligation for these important social programs upon low and middle income wages and salaries.  Worse yet, for roughly fifty years, while our historic social security “contributions” have exceeded social security outlays, instead of investing the surplus in tangible, productive assets our government has squandered those surpluses funding structural current deficits. 

Another life lesson absorbed over the years is that sound decisions cannot rely upon inaccurate facts or intellectually dishonest mischaracterizations.  This is, of course, the crux of the problem.  For at least thirty years our leadership has publicly acknowledged and widely bemoaned the fact that our budget policies have placed us on “an unsustainable path” – but the debate about reform has been derailed by mischaracterization of the facts. 

There is a deep divide between what social security is, and was intended to be, and what the public believes it is and demands from it.  Whether caused by gross and deliberate deceptions, or actively encouraged misconceptions, the lack of understanding among the public that exists related to social security is a serious obstacle to the tax reform debate.   

Social security was sold to the American public as a “savings program”.  But it is not a savings program.  If it were, contributions made today would be segregated and invested and future benefits would be reliant upon and funded by those contributions and the investment earnings accruing thereupon.  That does not happen. 

Social security is a social program.  It represents a collective decision by society to provide certain benefits and protections to its citizens.   We confuse the issue by pretending it is a savings program.  We confuse the issue by pretending that the contributions we diverted yesterday to other uses will somehow still be available for use again tomorrow.  We distort our tax debate by pretending employment taxes aren’t taxes.  We argue about marginal income tax rates, and claim the rich are bearing too high a burden; but as argued more fully nearby, our progressive income tax policies are more illusion than fact.  See Myth of Progressive Taxes.  Progressive rate schedules apply to less than 25% of the overall federal/state/local tax burden.  Inclusive of employment taxes, the working middle class pays higher marginal tax rates than the very wealthy.    

There are presently multiple proposals under consideration aimed at modifying (i.e. reducing) the benefit provisions of the social security program.  Based upon the trajectory of its program disbursements there should be no dispute that some modifications are necessary, indeed critical.  But there is essentially no debate underway about the fundamental logic (illogic) of funding those important programs solely on the backs of the working middle class or the outright duplicity of pretending the “I Owe Me’s” held by the Trust represent anything more than an accounting exercise. 

I consider it irresponsible to attempt to roll back the entitlement promises of social security without even acknowledging or addressing the irrationalities and inequities we have built into our tax revenue policies.  Conservative Republicans will tell you that we don’t have a revenue problem, we have a spending problem.  They are half right.  We do have a spending problem.  But we also have severe revenue problems.  We are burdening future generations with mountains of debt while we provide holders of existing wealth with favored tax treatment they neither need nor deserve. 

Until and unless we stop misconstruing the facts, I don’t believe we can make meaningful progress on placing either social security or our overall budget policies back on a responsible and sustainable path.   If we really want to make progress in resolving our fiscal challenges we need to stop all the pretending.  First and foremost we need to stop pretending the rich are over-taxed while the middle class pays higher marginal rates.  That fundamental intellectual dishonesty derails our productive debate – and the shell game we play by mischaracterizing employment taxes and the trust fund is the central point of that deception

We have some very difficult and painful choices to make.  We need to acknowledge the conflicts between what we have, what we want and what we can afford to do.  We ought to be making those choices based upon an honest assessment of the facts. 

By failing to acknowledge or address the flaws of our revenue policies and focusing solely upon cost cuts, our leadership seeks to perpetuate preferences toward the wealthy while requiring sacrifice from the working middle class.   Are they willfully ignoring the facts of our current situation?  Or have they become victims of their own misrepresentations?  One recent insider assessment of the collapse of Merrill Lynch attributed its demise to having “fallen for our own scam”. 

I choose to believe that the financial gurus responsible for our tax policies have fallen into a similar trap; they have spent so much time semantically misrepresenting the nature of our tax policies that they have become unable to see the underlying truth and fallacy of what they have constructed. 

Why do I believe that?  Because it would be just too depressing to believe that they are engaged in a willful conspiracy against the middle class.  However, based upon the facts, such a conspiracy would be easier to argue. 

Comments, replies and rebuttals are invited and will be welcomed. 

Douglas Hopkins

Author – A Citizen’s 2% Solution:  How to Repeal Investment Income Taxes, Avoid a Value-Added Tax, and Still Balance the Budget. ISBN 978-0-9828328-0-6

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4 Responses to “Social Security: Trust? Or Ponzi Scheme?”

  1. [...] higher marginal tax rates on earned income than their more affluent and successful neighbors.  See Social Security: Trust? Or Ponzi Scheme?.) Be Sociable, Share! [...]

  2. Paul Anderson says:

    Thank you for this educated, insightful, balanced, and easily understood treatise of the problem(s) at hand. I’ve been saying for 15 years that China is becoming more of a “first world” power economically, and We the United States of America, have been increasingly resembling more of a “third world” country. Wealthy, politicians who either willfully or unknowingly (it doesn’t matter which is worse) mislead their citizens, to continuously allow an increasingly dwindling middle class to bear the largest financial burden for programs available to most, are a prime example of that.

    • admin says:

      Effective fiscal reform cannot be achieved by focusing on just the expense side of the equation. We must demand Congress address the revenue side of our tax policies, not just because we need to generate more revenue, but more importantly because our current policies are riddled with misguided incentives. Our tax and monetary policies have made tax avoidance and valuation manipulation (ie speculative trading) far more profitable than productive enterprise and, by so doing, have destabilized our economy. Unless we change those policies we will remain stuck in an extended period of low growth and high unemployment. I understand why politicians and Washington insiders resist tackling these issues; they are incented to maintain the status quo. But where are the media voices that ought to be seeking out and illuminating alternative views?

      Thank you for your supportive comments. I encourage you to spread the word where you can.

  3. I linked this post to the Our Children’s Future page on http://www.sharedeconomicgrowth.org . The press has done a lousy job of helping people to understand that the reported federal deficit has been largely funded out of temporarily excess employment taxes, and now that that game is over and reversing the federal public debt problem is much, much worse. We can slash government spending until we become a third world country, or we can cushion the pain by using smarter tax policies to get more economic growth for a given dollar of revenue. But, the people have to demand the latter, because the politicians will not offer it. They will serve their campaign contributors and use their spin doctors to try to obscure what is really happening.

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